Do Quant Funds Have Enough Differentiation To Be Included In Your Portfolio?

What's better than a man and more efficient than a machine? The answer that some will give you is a combination of the two. This is what actively managed quant funds are intended to provide. But have they truly provided enough differentiation to warrant a spot in your portfolio?

Before you consider that, here's what they are:

Quant funds, or quantitative funds, are schemes where portfolio construction and decision-making are driven by an algorithm or software that uses quantitative analysis.

Technology is used to analyse large troves of data to make buy-and-sell decisions. This strategy strives to minimise the possibility of human error, typically when deciding whether to buy or sell a stock.

Quant funds are not entirely dependent on these quantitative indicators, though. The fund manager is responsible for distinguishing the quality from the noise. In some situations, quant indicators may filter a stock that does not have strong fundamentals. The fund manager is responsible for rooting out such potential underperformers.

The advantage of quant funds is the balanced blend of the strengths and weaknesses of both man and machine, according to Harish Krishnan, co-chief investment officer and head equity, Aditya Birla Sun Life Mutual Funds. The fund house has a new fund offer that is currently open in this category.

“Man plus machine is greater than man or machine individually,” he said on The Mutual Fund Show on NDTV Profit.

While fund managers bring diligence to the table, making emotional decisions remains a drawback. Meanwhile, the machine's strength is that it is unemotional but lacks the discretion to avoid underperforming stocks in disguise, he said.

To identify the universe that the Aditya Birla Sun Life Quant Fund will operate in, the top 75 stock positions from leading fund houses are first identified to create a superset. These stocks are then filtered further based on their fundamental track record. A momentum factor is then used to identify which stocks to buy from this smaller list. This filter uses relative returns over six months and picks the top performers.

The scheme will then end up with a stock portfolio of between 35 and 50 stocks, exclusively in the large and mid-cap spaces.

These schemes, categorised as thematic funds, are few in number, with assets under management of around Rs 6,000 crore, but they have largely managed to beat benchmark returns, said Prableen Bajpai, founder, FinFix Research & Analytics, on The Mutual Fund Show. 

“A lot of investor-related decisions taken in actively managed funds are backed by data, and I don’t see how quant funds are very different from that,” said Bajpai. Their biggest advantage is that they have been able to provide a higher degree of outperformance in bull markets than actively managed funds, she said.

Quant funds can't completely replace actively managed equity funds, according to Shalini Sekhri, chief growth officer at Renaissance Investment Managers.

"Quant strategies usually work when there's a trend. Models are not very good at forecasting. Rather, it largely looks at past data. If there is heightened volatility, it takes time to identify trends," she said.

In Sekhri's opinion, quant funds can be added to a portfolio because they provide diversification. However, the predominant allocation should continue to be in actively managed schemes, she said.